The whole market (and the media) seems to be worried about a looming recession. Driving that fear are many factors: a surging economy, very high market valuations, and a nearly inverted yield curve. Several big banks and research houses have put out warnings of a looming recession and bear market. However, one of the most prominent, Goldman Sachs, has just gone on the record doing the opposite. The bank says there is only a 36% chance of recession in the next three years, a figure below the historical average. “There has been increasing investor interest in the chance of a recession in the U.S. over the next few years … Our model paints a more benign picture”, said GS economist Jan Hatzius. The bank did note that if a US recession does occur, it will likely drag many developed economies down with it.
FINSUM: Recessions are famously hard to call, so we won’t go one way or the other. That said, there are some signs that a recession is looming. We certainly think the odds are higher than 36% for the next three years.
High dividend yields are almost always a welcome feature for investors. For retirees, they are often an economic lifeline as they help cover everyday expenses. But rising rates pose a risk for such stocks as their value tends to suffer as fixed income becomes more attractive. One way to combat that is with stocks with quick dividend growth. Two such examples are pipeline giants Williams Company (4.8%) and ONEOK (5%). Both have dividend rates double that of the average S&P 500 stock, but they are also expected to grow those dividends (and their cash flow) at double digit annual rates. The two companies expect to grow their dividends by 12.5% and 10% respectively (from already high levels).
FINSUM: Given how high these dividends are already, the growth rate on them should be enough to offset any rate rise-related losses.
Rising rates are definitively upon us. The Fed is poised to hike very soon and is likely to do so again before the end of the year. Some popular sectors, especially those with good dividends—REITs, utilities, telecoms—can suffer badly in rising rate periods. Luckily there are several ETFs that can help advisors hedge their exposure. The most common rate hedged ETFs are bond-based and use a strategy of buying higher-yielding corporate bonds and hedging their rate risk by short-selling Treasuries. The strategy seems to work well. For instance, the iShares Interest Rate Hedged Corporate Bond ETF (LQDH) gained about 11% between the 10-year Treasury’s low in July 2016 to now, while its unhedged cousin, the iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD) lost 0.45%.
FINSUM: That is quite a margin between the two funds, which is a testament to how well the strategy performs in rising rate periods. There are several similar funds out there, and they seem like a good idea right now.
Advisors, don’t hold your breath. Despite widespread criticism from basically every side of the equation, it appears unlikely the SEC is going to do much to correct the major flaws in its current Best Interest Rule. Barbara Roper of the CFA, says that she is “not at all confident” the SEC will make any meaningful changes to the rule “to better protect investors”, pointing out that the SEC had every chance to improve on the DOL rule, but didn’t. “It’s hard to believe that they are going to have a sudden conversion and fix the problems now”, she says.
FINSUM: Brokers, consumer protection groups, and clients all hate this rule (and don’t understand it), and it doesn’t make sense to anybody. Hopefully Roper is wrong and they will change the rule, but we worry they may not.
The market has been doing well lately and movements have been relatively calm. That may all be set to change, however, as a big driver of volatility is set to emerge. That driver is the so-called “blackout” period. The blackout refers to the month before earnings releases where companies are barred from repurchasing their own shares. Company buybacks have been a major tailwind for markets this year, with almost $400 bn of buybacks happening in the first half alone, up almost 50% from the prior year. Volatility has been historically higher in blackout periods.
FINSUM: So we are of two minds on this. On the one hand, blackout periods happen very frequently, so why would this one be special? On the other hand, there could be a lot of political and geopolitical (i.e. trade wars) turbulence in the next month, which means this particular period could prove very volatile.